Note: This article is a study by BitMEX Research. The original title is "Inflation Is Coming."
Abstract: We assessed the impact of the new crown virus on the economy and financial markets, which will mark a major economic structural change-from monetary policy to fiscal expansion financed by the central bank. Ultimately, under this new system, it is clear that there will be a winner: inflation. The economic environment may look like the 1970s, when inflation expectations are capricious. This institutional change and inflation will be intolerable in financial markets. In this environment, Bitcoin is likely to gain the greatest opportunity in its short life cycle.
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Financial market collapse under new crown virus
The 2020 New Crown virus stock market crash is now becoming one of the worst stock market crashes. Other similar events include:
- Global financial crisis (2008)
- The Internet Bubble (2000)
- Asian Financial Crisis (1997)
- Black Wednesday (1992)
- Japan's Asset Bubble (1991)
- Black Monday (1987)
- The Oil Crisis (1973)
- Wall Street Crisis (1929)
On March 17, 2020, the Volatility Index (VIX) reached a high of 84.83, only slightly lower than the peak of 89.53 reached in the global financial crisis in 2008. The S & P 500 has fallen from a peak to a trough, and has fallen by more than 30% by 2020. The Dow Jones Industrial Average has its largest one-day drop since Black Monday in 1987. There is no doubt that from a financial perspective, the new crown virus crisis in 2020 will be recorded in history. Asset management companies were more leveraged than ever before during the crisis, and they were desperately fighting for the dollar, causing spiraling declines in almost all asset prices, from stocks to commodities, from non-government bonds to cryptocurrencies.
Central banks and governments responded quickly. In the United States, the Federal Reserve has lowered interest rates to near-zero levels (0% to 0.25%), announced the purchase of at least $ 500 billion in national debt and $ 200 billion in mortgage-backed securities, and reduced the reserve requirement ratio for commercial banks to zero. And there may be more. However, it is becoming clearer that this is the last time the central bank has "rolled the dice." Monetary policy no longer works.
No way for the central bank
It can be said that the central bank has reached the limit of what they can do, and this has become a consensus, even among the central banks:
- The interest rate is already at the lower limit of 0%, because if the ratio is significantly lower, the public will hoard cash.
- Buying more government bonds will only help commercial banks in a liquidity crisis, and the transmission mechanism to the real economy has now been broken.
- We have reached the "reversal of interest rates", that is, due to the decline in net interest margins, further declines in interest rates have had a negative impact on commercial banks. Therefore, lower interest rates will cause the economy to contract.
- We have reached the behavioral limit of the central bank's expansionary monetary policy. Any further extreme measures will send negative signals to consumers and have a negative impact on the real economy.
The above arguments are increasingly convincing. The central bank issued a clear signal:
It is time to implement the fiscal stimulus package.
Are we on the right path?
Perhaps a more important question that needs to be answered is whether the central bank was on the right path in the first place. The response to the 2000 Internet bubble was to reduce interest rates from 6.5% to 1%, and then to reduce interest rates from 5.25% to 0.25% during the 2008 financial crisis.
The Fed's policy is based on a model in which monetary policy does not affect the economic structure. Instead, it only reduces the flow of money in the system. In our opinion, however, policy has become very extreme. The Fed's policy has become the main driving force for changing the economic structure. Its response to the worsening situation is destined to worsen the situation again in the future. These interest rate policies may have spread a series of financial crises, each of which was solved by lowering interest rates, which in turn sown seeds for the next crisis.
No matter what people think of monetary policy, there is no doubt that the current system cannot withstand another crisis. It's time for change.
Changes in the economic system
Governments around the world will face huge fiscal deficits. This is not only the result of increased spending requirements, but also part of the stimulus strategy.
These new and larger deficits will be formed by the central bank's direct purchase of government bonds. There are many different names:
- Quantitative easing
- Emergency assistance
- Modern monetary theory
- Unconditional basic income
- Helicopter money
- Fiscal transfer
- Green New Deal
- Distribution plan
- New crown virus salary payment
This request comes from the central bank, and governments will be happy to respond. Although this fiscal policy will be driven to some extent by a lack of currency, governments are unlikely to want to oppose it anyway. The government will also face tremendous pressure from the population. Initial needs can focus on mitigating the effects of coronaviruses. Provide funding for citizens to enable them to buy necessities when they lose income, and to compensate for lost corporate income caused by measures to prevent the spread of the virus. However, it is not just the virus that is driving consumption. Fueled by rising income and wealth inequality, political populism will also force governments to increase spending. The climate crisis may also be a problem that requires significant government spending to alleviate.
Considering the impact of the economic outage associated with the new crown virus, there is no doubt that this is our direction and we are moving fast. Let us not deceive ourselves. This is a major policy change. A change in the economic system will have consequences.
In terms of monetary policy, central banks are often afraid of taking actions that may be considered to be beneficial to special individuals, so the results are somewhat uncertain. However, in the new era of fiscal expansion, one clear winner is inflation. Inflation will not only come, but it will also have an impact. Our memory of this is already blurred. Inflation has remained low and stable for more than 30 years, and neither politicians nor the public have realized the risks involved. We cannot predict how and when inflation will occur, however, there will be a sudden shock at some point. Not only economic shocks, but also cultural shocks.
It seems to us that we are about to return to the 1970s, when inflation was volatile and reached a high of 15%.
The market cannot tolerate change. Not only will our politics, economy and culture be hit by inflation, but financial markets will also be hit. Financial markets have become very accustomed to mechanisms protected by central banks. Driven by fiscal expansion and unstable inflation expectations, it will be interesting to transition from this state to a new system. The turbulent times are coming.
Bitcoin's biggest test
In such an economic environment with high inflation expectations, gold seems to be glowing. What about Bitcoin? During the 2020 New Crown virus crash, Bitcoin has fallen by almost 53%, and investors are pursuing the US dollar. This is inevitable. However, after this crisis, there will be extremely volatile inflationary consequences. At this time, Bitcoin will glow. In our opinion, under this new economic system, the economic and financial markets have become loose, there are no important supporting points at all, and even the inflation target is not. This may be what Bitcoin has seen in its short life Greatest opportunity.